Nicosia holds a better hand in this €16bn poker game

Who will blink first in this €16bn poker game? The European Central Bank’s threat to withdraw emergency funding from crippled Cypriot banks looks like an attempt to play hardball: scare tactics to force the politicians who threw out a hugely unpopular raid on savings into finding €5.8bn from somewhere by Tuesday.

Without the cash – around €9bn funnelled to lenders from the ECB through the Central Bank of Cyprus – banks tottering under their exposure to Greece would collapse. The government would be forced to print money, pull out of the euro, and impose capital controls to stop cash winging out of the country.

The ECB argues that it can’t lend to insolvent banks, and that a bailout needs to be in place for the money to continue to flow. But is the ECB ready to take this ultimate sanction? Cyprus represents only 0.2 per cent of eurozone GDP and in purely financial terms the numbers are manageable. But the unpredictable consequences could ripple far beyond. The sight of depositors queuing up in Cyprus to get their cash out could trigger bank runs across Europe. For the sake of a few billion – peanuts in central banking terms – the ECB might have to step in with hundreds of billions in emergency liquidity for the financial system if banks across Europe take fright.

Interbank lending rates were little changed today because markets believe a deal will get done – but how long would the calm last in a painful exit scenario?

Cyprus’s situation is unique in the eurozone, with a banking sector swollen to seven times the size of its economy. But if Cyprus did pull out of the euro, as is being openly suggested by officials, then it underlines the fact the single currency isn’t as “irreversible” as ECB President Mario Draghi boasts. Cyprus’s politicians hold a better hand than it looks: the ECB’s ham-fisted brinkmanship risks bringing the eurozone face to face with its Lehman moment.